FHA Mortgage Fraud A Growing Concern

by Peter G. Miller
July 21st, 2010

A new report suggests that mortgage fraud for FHA loans is double the level associated with conventional financing.

According to its 2010 Mortgage Fraud Trends Report, CoreLogic says that “on average, lenders are reporting 55 basis points of fraud on conforming loans, and 122 basis points of fraud on Federal Housing Administration (FHA) loans.” (A “basis point” is 1/100th of a percent, so the numbers here translate into a .55 precent fraud level for conforming loans and 1.22 percent for FHA financing.)

CoreLogic also says that in 2009 the FHA program insured loans worth $615 billion. If 1.22 percent involved fraud, then FHA financing worth $7.5 billion could have been originated improperly.

At Risk

If the CoreLogic numbers are correct then there are three places where there could be a lot of liability.

First, the FHA could face additional claims against its reserve fund as a result of fraudulent applications.

Second, lenders who originate fraudulent loans could be required to buy back the tainted paper. The reason: Private-sector lenders are well-paid to properly underwrite mortgages and FHA guidelines are very clear. Application information must be checked and verified.

Third, if it is the borrower who engaged in a material and willful fraud then the homeowner could face legal sanctions.

What Is Mortgage Fraud?

“Mortgage fraud is a material misstatement, misrepresentation, or omission relied upon by an underwriter or lender to fund, purchase, or insure a loan,” according to the FBI. “Mortgage loan fraud is divided into two categories: fraud for property and fraud for profit. Fraud for property/housing entails misrepresentations by the applicant for the purpose of purchasing a property for a primary residence. This scheme usually involves a single loan. Although applicants may embellish income and conceal debt, their intent is to repay the loan. Fraud for profit, however, often involves multiple loans and elaborate schemes perpetrated to gain illicit proceeds from property sales. Gross misrepresentations concerning appraisals and loan documents are common in fraud for profit schemes, and participants are frequently paid for their participation.”

Unfortunately, while the definition of mortgage fraud is clear the definition of “predatory lending” under federal rules is not. In fact, despite what is said in speeches and op ed pieces, “predatory lending” is not a federal crime.

Tightening Standards

It’s never going to happen that the lending process will be completely free of fraud, whether it’s in the form of borrower misrepresentations or lender chicanery. Nevertheless, the CoreLogic figures are certainly one more reason why tough underwriting standards should be maintained.

The good news, at least, is that mortgage fraud is in decline. “Overall mortgage fraud risk, including subprime loans, has been steadily decreasing since 2006 and appears to have leveled off in 2009,” says CoreLogic.

Well sure. What else could one possibly expect as we reduce the number of no documentation and low documentation loan applications and increasingly hold loan originators responsible for the loans they underwrite?

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